A new year and new concerns

Many private debt professionals have expressed optimism for 2017, but two cautionary tales emerged in January.

One month into the year and two storylines emerging in the credit world are a slower collateralised loan obligation market and massive loan repricing that is dampening credit spreads.

Gretchen Lam, a portfolio manager at Octagon Credit Investors, says the slow start in 2017 for CLO issuance has arisen from the difficulty of finding debt at attractive prices. Investment professionals are discovering that they need to pay a premium for loans rather than pick them up at a slight discount.

According to Standard & Poor’s data, CLO issuance for January clocked in at $1 billion, much the same early pace as in 2016. New issuance last year totalled $72 billion, down from 2015’s $98 billion. The ratings agency’s research note says January’s spreads on AAA-rated debt are “on the tighter end of the 2016 range”.

“[For] managers which are constructing loan portfolios that will eventually become CLOs it’s more difficult to go into the secondary markets and buy loans in a matter of a few days or weeks,” Lam tells Private Debt Investor. “You’d be paying a price that is greater than par.

“The expectation of many sell-side analysts is that issuance in 2017 will be below levels that we saw in 2016 or 2015,” she says, adding that this year’s issuance could run between $50 billion and $60 billion.

Furthermore, net loan issuance has not kept up with demand. Borrowers are repricing their debt at lower levels, thus dampening credit spreads. Some $200 billion in loans have been repriced over the course of the past four months, out of a $950 billion loan market.

Additional data from Standard & Poor’s show that leveraged loan repricing crossed the $100 billion mark in January, more than double the previous record of $48.6 billion in January 2013. About four-fifths of the repricing involved amendments to loan documents.

Lam believes volume will pick up, however, characterising January as a seasonal loan issuance slow down. The increase in net new issuance could help stabilise credit spreads, hopefully easing some of the downward pressure on margins.

The sluggish pace of CLO issuance is in contrast to other areas of debt. “Investment grade corporate new issuance has just been going gangbusters” so far in 2017, according to Joe Mayo, head of corporate research at Conning. Bloomberg reports that companies issued $60 billion in investment-grade debt in the first week of January.

However, the investment-grade space could potentially take a hit from trade policy, with US President Donald Trump having made renegotiating trade deals a centrepiece of his campaign, including the more than two-decade-old North American Free Trade Agreement. Most large companies are multinational with significant overseas sales and intricate global supply chains and could be left unfavourably exposed to prolonged uncertainty.

No one will be too downbeat about 2017 prospects at this early stage, but for debt issuers just a little concern may be spreading.